¶ … Financial Ratios of a Prospective Borrower
Financial ratio analysis is a quantitative tool used to analyze financial standing of a business entity. The ratio analysis can also be used to compare financial capabilities of companies in different industries. This paper discusses how financial ratios can be used to answer questions about the management, marketing, and production capabilities of a prospective borrower. The paper also identifies ratios that demonstrate management competency and are mandatory to a financial services regulator.
Ratios demonstrating Production, Management, and Marketing Capabilities of a prospective Borrower
In the contemporary business environment, firms rely on loans from banks to improve their business operations. However, before a bank or other financial institutions can offer loans to organizations, they have to evaluate management competency, production, and marketing capabilities of a prospective borrower. The bank uses different financial ratios to analyze production efficiency of a prospective borrower.
An efficiency ratio is one of the ratio analysis tools to evaluate the production capabilities of a company. (Investopedia, 2015). Typically, the efficiency ratio measures the extent a company is able to utilize its assets to generate cash. Typically, cash availability is very critical to enhancing efficient production of a company because cash is used to pay the raw materials and suppliers. Efficient ratio goes 'pari passu' with profitability ratios because when a firm is efficient with its resources it becomes profitable. Inventory turnover is one of the efficient ratios showing how efficient company is able to turn and sell the goods produced at a given period. The high rate of inventory turnover reveals that company is being efficient in its production. However, a low inventory turnover...
As being revealed in Table 1, the bank will use historical inventory turnover ratios, and asset turnover of Apple Inc. to evaluate the production capabilities and management competency of the company.
Table 1: Efficiency Ratio (Apple Inc.)
2015
2014
2013
2012
2011
2010
Inventory Turnover
62.82
57.94
83.45
70.53
52.51
Days Inventory
5.81
6.30
4.37
3.26
5.18
6.95
Payables Period
85.57
85.45
74.54
74.39
75.48
81.31
Cash Conversion Cycle
-52.97
-48.64
-44.50
-52.13
-51.96
-49.53
Receivables Turnover
13.62
11.96
14.22
19.20
19.90
14.71
Fixed Assets Turnover
10.85
9.82
10.67
13.48
17.26
16.89
Asset Turnover
0.89
0.83
0.89
1.07
1.13
1.06
Source: (Morning Star, 2016).
The (ROA) return on asset is one of the profitability ratios that measures how an organization is able to use its asset to generate net income. Typically, banks will evaluate the ROA historical record of a prospective borrower to evaluate the management competency in converting the asset into net income. An increase in the…
